Friday, May 11, 2007

Tom Davenport re the Balanced Scorecard

Since I've written several posts both on use of analytics in business and on the balanced scorecard,1 it seems appropriate to call attention to thoughts Tom Davenport, professor of IT and management at Babson College, offers on the relationship between these two subjects.

Citing research by David Larcker and Chris Ittner, Davenport argues that companies using balanced scorecards have generally not taken the essential step of identifying how their scorecards' nonfinancial and financial measures are linked. Davenport goes on to say,

Over the next few years, I’m confident that more companies will pursue “cause-and-effect reporting,” or perhaps it will be called “analytical reporting.” They’ll know the quantitative relationships between key nonfinancial measures and financial performance. Some leading companies in performance measurement already do. Hilton Hotels, for example, determined that a 5 percent increase in customer loyalty—a key scorecard measure for the company—translates into a 1.1 percent increase in revenue the following year. ...

Firms do this sort of analysis by gathering and analyzing performance data over time, by running statistical analysis on the measures, and by occasionally performing controlled experiments to eliminate other sources of variation than the selected variables. It’s not easy to do, but it’s fantastic to have a clear idea of what drives your business. Simply balancing your scorecard is no longer enough—you need to know what scores drive what other scores.

I'd note that Davenport's views on identifying the cause-and-effect relationships among scorecard measures is consistent with a broader point that he makes frequently, namely that careful analytical work is vital to effective business decision-making. In other words, in Davenport's view, the power of intuition is often overstated.